Jan. 13, 2014

Written by

Matt Helms and Tresa Baldas

Detroit Free Press Staff Writers

A federal judge said he will rule Thursday on what could be the settlement of one of the most troubling debts in Detroit’s historic bankruptcy by paying off two banks a total of $165 million — a deal that has ignited a firestorm of controversy.

The city says the deal needs to be approved in order for Detroit to move forward, but opponents argue the proposed settlement of a Kilpatrick-era interest rate swap deal reeks of unfairness and doesn’t help the city.

But Detroit’s lawyers argue that it needs to pay off the banks — UBS and Bank of America Merrill Lynch — to close the chapter on a 2005-06 bet in which the city sought to limit risks on $1.4 billion in pension debts it sold to shore up underfunding in its two pension systems. That wager soured when interest rates tanked in the recession.

“At a time when the people of Detroit are facing terrible services … to sit back and make a payment of $165 million to UBS and Bank of America seems unconscionable,” attorney Jerome Goldberg argued in court Monday during closing arguments in the matter.

Goldberg, who is representing a Detroiter from a dilapidated neighborhood, was among several lawyers who urged U.S. Bankruptcy Judge Steven Rhodes to reject the so-called swaps settlement. Critics question whether the swaps deal was legal in the first place, and lawyers for objectors to the deal hammered at that point Monday.

Jones Day attorney Corrine Ball, representing the city, said the deal has to happen as soon as possible. London-based Barclay’s had agreed to lend Detroit up to $350 million to pay off the swaps deal and use $120 million to reinvest in city services and blight removal.

But Rhodes said in November the deal’s offer of $230 million to the two banks was too generous, and he ordered the city to renegotiate. Detroit agreed to a new deal announced on Christmas Eve to reduce the banks’ payment to $165 million.

“The city’s residents should not have to wait to stabilize the city’s finances,” Ball said. “This deal will substantially improve the cash flow of the city. … there is clearly a policy in favor of settlement.”

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Ball also refuted claims that the city should have sued the banks rather than strike a deal with them. She deferred to the prior testimony of emergency manager Kevyn Orr, who has said that litigating with the banks would have cost too much money and time, and that the chance for success was only 50-50. He said there was too great a risk of the city losing access to one of its most stable revenue sources: $15 million to $17 million a month in casino revenue.

A lawyer for the banks said the financial institutions won’t make money off the deal to settle the swaps, and that the settlement needs to be approved to help the city move on. He said Detroit’s negotiators “pushed us to the lowest level we would ever accept” after Rhodes in December rejected a previous settlement.

“It is not profit to us,” Mark Ellenberg, an attorney for Merrill Lynch, said of the plan to exit the contracts: “There is no genuine question that the settlement agreement is beneficial to the city … We’re very well aware of what’s at stake in this case, and the case is going to have an impact on the city and perhaps other parties.”

Opponents, however, lambasted the proposed settlement. Creditors, including financial institutions and labor groups, argued the proposal gives unfair special treatment to the two banks.

“This was a bad deal,” argued Caroline English, an attorney for one of the objectors. “They were trying to get a deal done at any cost.”

English also argued that the swaps were invalid, and that if Detroit sued the two banks rather than pay them, the city could have secured a better deal.

“If the city is going to settle instead of litigate … the question remains: was there a credible assessment done of the city’s legal arguments,” English said. The court “can’t just rubber stamp what Orr or the city wants to do.”

In testimony Monday, lawyer Robert Gordon of the Clark Hill law firm, representing the city’s two pension systems, refuted Orr’s assessment and argued that the city could have been successful in challenging the legality of the swaps arrangement in the first place, and that a legal challenge to the swaps could have been done at minimal cost and in as little as six weeks.

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He and other lawyers question whether the new deal to pay off the swaps might not actually cost the city more money than the deal it replaced.

“The city and its creditors deserve far, far better,” Gordon said. “It’s not substantially or meaningfully better than the original deal and indeed may be worse by the time the deal would close.”

English, representing insurer Ambac Assurance and others, argued that the original swaps deal crafted in the Kilpatrick era violated both state law governing municipal finance and the state’s gaming control act, which outlines the uses for which cities may spend casino tax revenue — public safety programs, capital improvements, economic development, road repairs and the like — but doesn’t specifically mention using the money in hedge deals.

Attorney Ryan Bennett, who is representing Syncora, one of the insurers of the original swaps deal, argued the city’s focus on deals such as the UBS-Bank of America settlement at this point, before it has agreements with creditors on a larger plan to emerge from bankruptcy, is alienating creditors.